Corporate Governance and Fraudulent Financial Statements in Indonesia’s Local Government Halim Dedy Perdana1, Sri Suranta2, Santoso Tri Hananto3, Christiyaningsih Budiwati4 Accounting Study Program of Universitas Negeri Sebelas Maret
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Abstract This study tests the influence of corporate governance element consisting of accountability, responsiveness and responsibility to fraudulent financial statements that occur in local government in Indonesia. Fraudulent financial statements have been a recurring problem every year at the district / city in Indonesia. Fraudulent financial statements are a form of fraud in addition to misappropriation of assets and corruption that the highest aggregate amount. That's necessary for good governance is often called good government governance. The model tested by logistics regression as statistical analysis tools. The results of this study are both transparency and responsiveness have influence to fraudulent financial statements. Otherwise, responsibility has not effect to fraudulent financial statements. Keywords: corporate governance, fraudulent financial statements
Introduction Research Background Indonesia has switched from a centralized system to a decentralized system in an effort to create good governance. It is characterized by the enactment of Law No. 32 of 2004 as an amendment to Law No. 22 Year 1999 on Regional Government and Law No. 33 of 2004 as an amendment to Act No. 25 of 1999 on Financial Balance between Central and Regional. Decentralization refers to a result of restructuring or reorganization of the authority that creates a shared responsibility between the institutions in governance both at the central, regional and local in accordance with the principle of mutual support is expected in the end is the quality and overall effectiveness of the system of governance of the including increased authority and capability of governance at the local level (UNDP, 1997). Besides decentralization, another attempt to do is to reform the bureaucracy. In its website, the Ministry of Administrative Reform and Bureaucratic Reform (Ministry of PAN and RB) states that: "Bureaucratic reform is essentially an effort to reform and fundamental changes to the system of governance, especially regarding aspects of institutions (organizations), business-process and human resources personnel. "in the Presidential Regulation No. 81 Year 2010 on Grand Design reforms, stated that each Ministry / Agency and Local Government conduct bureaucratic reform measures with reference to the Grand Design reforms 2010-2025 and the Road Map for reforms 2010-2014 and beyond, according to the characteristics of each institution. Bureaucratic reforms carried out in order to realize good governance and clean government as the embodiment of the application of the concept of new public management (NPM). The concept of new public management proposed by Christopher Hood (1991) adheres to the seven basic principles, namely professionalism in public sector management, use of performance measures and performance standards, an emphasis on output and outcome control, decentralization, adopting market mechanisms
in the public sector, adopting management techniques sector the private sector into the public sector, and discipline in the use of public resources. One of the things emphasized in the reform of the bureaucracy, namely the performance accountability of government agencies. Government Performance Accountability is the embodiment of the obligation of a government agency to account for the success and failure of the implementation of the mission of the organization in achieving its goals and objectives that have been determined through periodic accountability (LAN 2003). Law Number 17 Year 2003 on State Finance that obliges central and local government agencies to prepare financial statements in any accountability of the national budget to Parliament. The financial statements in question are the Budget Realization Report, Balance Sheet, Cash Flow Statement and Notes to Financial Statements. The format of these financial statements are presented by the government is very different from the format of the financial statements. In the accountability of the state budget in the past, the financial statement prepared by the government is composed of the budget realization reports only. This phenomenon indicates improvement in the quality of financial statements presented by the government to create transparency and better accountability. As a follow up of the new financial formatlaporan, the government then passed Government Regulation Number 24 of 2005 on government financial accounting standards. This standard is a guideline for the government in presenting the financial statements are standard, including about accounting treatment, accounting recognition accounting policy. Accounting standards required that the resulting financial statements comparable government, and their perception and understanding between renderers financial statements, the financial statements and the regulatory financial statements. The preparation of financial statements which are based on government accounting standards helpful in meeting the needs of financial information is generally more qualified for the users of the financial statements in order to assess accountability and economic decision-making, social or political. The effectiveness of the implementation of the financial management functions in the financial statements is currently dealing seriously with increasing fraud in our society. To ensure accountability, fraud should be seen as a real threat to good governance, effective management and progress in society as a whole. Fraud in practical terms refers to a situation where an entity disturbed accountability. Fraud is part of a broader concept of corruption. The legal definition of fraud might be considered as a form of irregularities involving the fraudulent use of criminals to profit illegally. For example, the occurrence of a major case which dragged the political party officials in Indonesia is a case of building a regional sports center in Hambalang, Bogor. Head of BPK, Hadi Purnomo said the total losses due to the State Hambalang project amounting to Rp 463.67 billion. Violations are located at several stages: First, the process of land titling, second, the process to obtain construction permits, third, the bidding process and fourth, the approval process and approval RKA-KL Year Contract Plural. Fifth, the implementation of construction work. And sixth, payments and cash flow followed accounting engineering. This is in accordance with the opinion of Okafor (1986), "fraud occurs when a person in a position of trust and responsibility, which deviates from the norms prescribed, break the rules to advance personal interests at the expense of public interest which he has been entrusted to menjagadan promote, things this also occurs when a person, through deception, trick or very smart cunning, gains the advantage he could not otherwise have been obtained through legal, or just a normal process ". A common element in most definitions of fraud is the use of deception. Financial management should analyze the conditions that lead to fraud so as to mengambilkebijakan appropriate and procedural steps to control or prevent such occurrences.
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By using literature study Illustration risk factors of fraud from a standard fraud exist (ie, SAS 99, ISA 240, TSAS 43) is based on a triangular theory of fraud initiated by DR Cressey in 1953 (Lou and Wang, 2009) in a paper entitled Other People's Money: A Study in the Social Psychology of Embezzlement. Through a series of interviews with 133 people who have been convicted of embezzlement, Cressey (1953) categorize the conditions are always present in fraudulent activities of the company are: 1. Pressure. 2. Opportunity. 3. Rationalization. Wolfe and Hermanson (2004) in the Kennedy and Siddiq (2014) states there are an additional factor in the fraud triangle theory, that capability. Dlakwa H. D. (1902) under the "Accountability in Government" provides the conceptual framework of accountability, known as "The Model Accountability Triangle". This model represents the triangular relationship between the various components of accountability. Components of accountability are Transparency, Responsibility and Responsiveness. Based on Law 1945 Article 23E of the Supreme Audit Agency, it is known that the Audit Board of Indonesia (BPK) as an institution external audit of government that holds the constitutional mandate to examine the management and financial responsibility of the state in order to promote the establishment of accountability and transparency of state finances as well as play an active role in creating good government, clean and transparent. Furthermore, according to Law Number 15 Year 2004 concerning Management and Accountability of State Finance, Article 16, paragraph (1) states that the examination report on the government's financial statements contain opinions. From all the government's efforts are intended to strengthen the regulation of the financial management of the state so as to produce financial statements that provide information that is transparent and accountable. According to Carey (2009) there should be no attempt to present information in favor of some parties, while it would be detrimental to other parties who have conflicting interests. The information is presented on the basis of specific needs and desires of the parties raises the risk of fraud is great, because the financial statements do not describe the actual conditions of governance, the financial statements prepared for the desire of certain parties can be achieved. The perpetrators of fraudulent practices in financial reporting government tend to find loopholes to cheat by using the weak control system on financial reporting process A series of studies related to fraud in the financial statements / Financial Statement Fraud previously been performed at private sector / corporate including; Spathis, 2002; Intal and Do, 2002; Turner et al., 2003; Skousen et al., 2009; Lou and Wang, 2009; Wolfe and Hermanson, 2009; Norbarani 2012, Kurniawati, 2012; Prime, 2012; Sihombing, 2014. On the basis of these studies the authors tried to take the research to the public sector / government. As is the case with research in the private sector before, Kurniawati (2012) analyze the factors that affect the financial statements in the perspective fraud fraud triangle. Results of the study found no significant effect of fraud risk factors (opportunities) are proxied by the ratio of independent board against fraudulent financial statements. Therefore still rare fraud risk factors related research and financial statement fraud committed on the public sector Referring to the research conducted by Adoti & Adefila (2009) states that the relationship between the components of accountability towards the prevention and control of fraud. In the present study, the authors refer to the Accountability Triangle models by using local government as an object of research. This study attempts to provide empirical evidence about the influence of the components of corporate governance, risk factors fraudulent financial fraud against the government's public sector entities statementspada districts / cities in Indonesia.
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Literature Review Agency Theory Agency theory describes the relationship between the shareholders as a principal and as agent management. Management is a party selected and contracted by the shareholders to work in the interests of shareholders. Therefore, the management must account for all of its work to the shareholders. The agency problem would arise because individuals are assumed to have a preference to maximize personal interest that is likely contrary to the interests of other individuals (Jensen and Meckling, 1976). To minimize agency problems arising from differences of interest is then be made between principal and agent contract. The same thing happens in the government, is a contract between an agent (the government) with the principal (the people). Formal contract between the people and the government set forth in Law No. 32 of 2004. The Act states that the regents and mayors elected by the people are responsible for the planning, implementation and accountability of government programs. The selection mechanism shows that there delegation of authority from the people to the head region. This process demonstrates the existence of an agency relationship between the people and the head of the region, the regional head acting as an agent and the people are the principal in the framework of the agency relationship. Parliament elected by the people to be a representative of the people, as well as the board of directors elected by shareholders to represent them. In the context of regional finance, agency theory involves Parliament as representatives of the people who gave the mandate and the head of the region as the recipient of the mandate. In a more technical level, the regional head is a fiduciary where the regional head delegate and control of the budget to the heads of working units (SKPD) as the recipient of the mandate. Head of regions with authority can issue a policy regarding the provision of incentives and oversight to the heads of SKPD to ensure that the implementation of the budget is done by SKPD in accordance with the regional head in this case is overseen by parliament as representatives of the people (giving the mandate to the head area). Good Corporate Governance Monks 2003 defines good corporate governance (GCG) is a system that regulates danmengendalikan company that creates nilaitambah (value added) to all stakeholders. Principles of corporate governance according to the National Committee on Governance Policy, namely: a. Transparency, transparency in the decision making process and openness in expressing material and relevant information about the company. b. Accountability, clarity of function, structure, systems, and accountability of the company so that the management company are effective. c. Responsibility, conformity in the management of the company towards healthy corporate principles as well as applicable legislation. d. Independency, a state where a professionally managed company with no conflict of interest and influence / pressure from management that does not comply with the regulations and legislation applicable and the principles of healthy corporate. e. Fairness, fair treatment and equal in fulfilling the rights of stakeholders arising under the agreement and applicable laws and regulations. There are two things that are emphasized in this concept, first, the importance of the right of shareholders to obtain information correctly and in a timely manner and, secondly, the company's obligation to make disclosure of accurate, timely, transparent to all the information the company's performance, ownership, and stakeholder , In the context of the public sector, shareholder rights in this case is the people, while the company's obligation is the obligation of the government to present financial statements.
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Accountability Concept Kemenpan and RB 2010 state that accountability is the obligation to deliver accountability or to answer the performance and actions of a person / legal entity / collective leadership of an organization to the party who has the right or in authority to request information or accountability. Furthermore, the Performance Accountability is the embodiment of the obligation of a government agency to account for the success / failure of the implementation of programs and activities that have been mandated by the stakeholders in order to achieve the mission of the organization as measured by the goals / targets set performance through performance reports of government agencies that are arranged periodically.
RESPONSIBILITY - Knowledge of expected role - Performance of what is expected - Owing up to lapse & failure - Prudence of the application of resources
The Model Accountability Triangle RESPONSIVENESS - Effective communication channel - Sympathy and empathy for the publik. - Quick reaction to both positive and negative involvement of beneficiaries in Signals. - Ability and willingness to learn from mistakes.
TRANSPARENCY - Openness to publik scrutiny. - Timely release of reliable information involvement of beneficiaries in decision making. - Proper and timely documentations And progress reports.
Fraud a. Definition of Fraud Statement on Auditing Standards 99 defines fraud as "an intentional act that results in a material misstatement in the financial statements that are the subject of an audit". According to Black's Law Dictionary in Prasad et al. (Peak Indonesia, 2003), fraud is defined as: Includes all sorts of conceivable human, and pursued by a person for the benefit of another person with the wrong suggestion or coercion truth, and covers all unexpected ways, full of violent tactics or hidden, and every manner of unnatural causes people another fooled. Based on the Association of Certified Fraud Examiners (ACFE), fraud is: Acts against the law that was done intentionally for a specific purpose (manipulation or give false statements against others) do people from inside or outside the organization for personal gain or groups directly or indirectly harm others. Tampubolon (2005) argues, fraud is not always the same as a criminal offense. Crime is defined as an intentional at that violates the Criminal Law under no legal excuse Applies roomates. While the fraud is defined as any behavior by the which one person gains or intend to gain a dishonest advantage over another. The action can be regarded as a criminal fraud if the intention or action to get dishonest gain also violated the provisions of the law, such as corruption or tax evasion. Fraud is not a criminal in the category of operational risk, while at the same fraud crime of illegal entry risk category. From the definition or understanding of fraud in the above, it can be seen that the definition of fraud is very broad and can be seen on several categories of fraud. According to the BPK (2008) in general, the elements of fraud are: 1) There must be one statement (misrepresentation); 2) From a past (past) or current (present); 3) The fact is material (material fact); 4) Committed intentionally or without calculation (make-knowingly or recklessly); 5) With the intent (intent) to lead a party to act;
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6) The injured party must act (ACTED) to any of these statements (misrepresentation); 7) The harm (detriment). b. Fraud Triangle Theory The concept was introduced by the Fraud Triangle Cressey (1953). D. R. Cressey in 1953 (Lou and Wang, 2009) in a paper entitled Other People's Money: A Study in the Social Psychology of Embezzlement. Through a series of interviews with 133 people who have been convicted of embezzlement, Cressey (1953) categorize the conditions are always present in fraudulent activities of the company, namely: 1) Pressure Pressure / motif incentives that encourage people to commit fraud due to lifestyle demands, helplessness in the matter of finance, gambling behavior, try to beat the system and job dissatisfaction (Salman, 2005). Montgomery et al., (2002) in Rukmawati (2011) said pressure / motive is actually has two forms, namely the real (direct) and form perception (indirect). Forms of real pressure caused by real-life conditions faced by actors pushed to commit fraud. The condition can be a habit of frequent gambling, drug addiction, or a matter of money. The pressure in the form of an opinion perception built by actors pushed to commit fraud, such as the executive need. In SAS No. 99, there are four types of conditions that commonly occur in pressure that could lead to fraud. The condition is financial stability, external pressure, personal financial need, and financial targets. 2) Opportunity According to Montgomery et al., (2002) in Rukmawati (2011) chance that the opportunities that resulted in a conviction freely able to carry out the action caused by internal control weak, undisciplined, weakness in accessing information, there is no audit mechanism, and apathy. Most notable here is in terms of internal control. Internal control is not good will give people the opportunity to commit fraud. SAS No. 99 mentions that the opportunities in the financial statement fraud can occur in three categories. The condition is the nature of the industry, ineffective monitoring, and organizational structure. 3) Rationalization Rationalization be an important element in the fraud, in which the perpetrator to justify his actions. Attitude or character is what causes one or more individuals to rationally commit fraud. Integrity Management (attitude) is a major determinant of the quality of financial reporting. When the integrity of the managers questioned doubted the reliability of financial statements. For those who are generally dishonest, it may be easier to rationalize fraud. For those with a higher moral standard, it may not be so easy. Perpetrators of fraud are always looking for a rational justification to justify his actions (Molida, 2011). Wolfe and Hermanson (2004) in the Kennedy and Siddiq (2014) states there are an additional factor in the fraud triangle theory above, namely capability. Capability is a qualitative factor which is one of the models complement the fraud triangle of Cressey. Capability means how much power and capacity of the person doing Fraud in an enterprise environment. In this study will be used as a proxy of the Board of Directors Changes rationalization. Direction changes are generally loaded with political content and the interests of certain parties that trigger the appearance of conflict of interest. Theoretical Framework and Hypothesis In the Kennedy and Siddiq (2014), agency theory describes the relationship between the shareholders as a principal and as agent in the management of a contract that called a nexus of contracts. However, there are often differences in the interests between management and shareholders. Different interests have led to a conflict of interest between the two parties. Because of this conflict of interest, the company as an agent faced pressure to find ways to make the company's performance is increasing with the expectation that the improved performance, the principal will provide a form of appreciation (rationalization). The gates to fraud will be more open when management has a wide access (capability) as well as the opportunities and opportunities to increase profits (opportunity).
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Previous research on the relationship between accountability and fraud do Adefila and Adeoti (2009), but these have more emphasis on the essence of accountability in relation to the prevention and control of fraud. Therefore, the author tries to do some research to emphasize the influence Accountability component of the fraud risk factors. This study uses the public sector as an object of research and by reducing some of the variables that are not on the public sector (local government) .Then can be made a theoretical framework that describes the variable component of accountability in the public sector. It can be described in the theoretical framework of the scheme as follows.
1.
Corporate Governance: Transparency , Responsive dan Responsibilit Transparency influence on fraudulent financial statements y
Fraudulent Financial Statements: Opinion of Local Government Financial Reporting
Dlakwa HD (1902) argues that the attributes in transparency includes openness to public scrutiny, their sympathy and empathy from the public, timely information and reliable for decision making, documentation valid and timely and the progress of follow-up on the results of the examination (TLRHP) BPK. Less fulfillment of the transparency attribute indicates the risk factors that contribute to fraud within the entity. Based on this, the hypothesis formulated is: H1: Transparency influence on fraudulent financial statements 2. Responsiveness influence on fraudulent financial statements Dlakwa H. D. (1902) found in the responsiveness attributes include effective communication channels, their sympathy and empathy from the public, the ability and willingness to learn from mistakes as well as fast response, both positive and negative. Less fulfillment of the responsiveness attributes indicate the presence of risk factors that contribute to fraud within the entity. One of the attributes of responsiveness can be seen from the monitoring of local government financial reporting. Based on this, the hypothesis formulated is: H2: Monitoring of local government influence on fraudulent financial statements 3. Responsibility influence on fraudulent financial statements Dlakwa H. D. (1902) argues that the responsibility attributes include knowledge of its role, the expected performance, as well as the cause and repair the failure. Less fulfillment of the responsibility attribute indicates the risk factors that contribute to fraud within the entity. One attribute responsibility can be seen from the resources used by local governments, such as the educational background of the head region. Based on this, the hypothesis formulated is: H3: Educational background of local government head influence on fraudulent financial statements
Research Method This study uses the local government financial statements audited by the BPK in 2010-2014 population and Regency / City in Indonesia as a sample. The variables in this study as follows. a. Dependen Variable The dependent variable / tied up in this study was fraudulent financial statements by proxy audit opinion on the financial statements of the district / city in Java. It has the form of categorical variables with a value of 0 if opinions obtained unqualified and a value of 1 if the opinion outside the unqualified.
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b.
c.
Independen Variable The independent variable in this study was a proxy for corporate governance with transparency, responsiveness and responsibility. Control Variable The control variables used in this study is the size of the district / city governments by proxy of total assets.
This study uses a quantitative approach. A quantitative approach is a research approach used to examine the population or a particular sample, data collection using research instruments, quantitative data analysis, in order to test the hypothesis that has been set (Sekaran, 2010). Sampling method used in this research is purposive sampling methods. The data in this study consisted of nominal data and ratios for independent variables and categorical data for the dependent variable, the analysis used in this study is binary logistic regression models (Field, 2009).
Results and Findings Based on data, there are 98 local government that issuing complete information as research sample from 2010 – 2014. Before performing hypothesis test, first step is to assess the suitability of the model to the data with the function of Hosmer-Lemeshow goodness of fit. Otherwise, the model fits the data if the Hosmer-Lemeshow test are expressed in Chi-square was not significant (Soselisa and Mukhlasin, 2008). Classification Tablea,b Observed
Predicted Opini .00
Step 0
.00 1.00 Overall Percentage
0 0
Opini
Percentage Correct
1.00 101 389
.0 100.0 79.4
a. Constant is included in the model. b. The cut value is .500 Variables in the Equation B Step 0
Constant
S.E.
1.348
.112
Wald
df
Sig.
145.798
1
.000
Exp(B) 3.851
The output of classification table above in the beginning block of corporate governance and fraudulent financial statements describes the variables that predicted that the percentage of 79.4 percent is good, and from the comparison between these two values indicates the absence of homoscedasticity problem. On the output variables in the equation of significance is 0.000. This means that the models is not significant and thus accept Ho. Omnibus Tests of Model Coefficients Chi-square
Step 1
df
Sig.
Step
60.115
4
.000
Block
60.115
4
.000
Model
60.115
4
.000
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Model Summary Step
-2 Log likelihood
Cox & Snell R
Nagelkerke R
Square
Square
438.484a
1
.115
.181
a. Estimation terminated at iteration number 5 because parameter estimates changed by less than .001. Hosmer and Lemeshow Test Step 1
Chi-square 8.679
df
Sig. .370
8
In the omnibus test output states that the results of the chi-square goodness of fit smaller than 0.05, indicating that the model is significant. It means there are relationships between corporate governance with transparency, monitoring of local government and educational background of local government as proxies and total assets as control variables to fraudulent financial statements. The results of the Cox-Snell output R2 and Nagelkerke R has the same analogy with the R-square value of the linear regression which states that as many as 18.1 percent of the variability can be explained by the model, while remaining outside the model. The other words, combination between corporate governance proxies and control variables contribute 18 percent to fraudulent financial statements. The results of the Hosmer and Lemeshow Goodness of Fit Test indicates that we can accept H 1 as more than 0.05 (p > 0.05) and we can continue to test the hypothesis. Variables in the Equation B
S.E.
Wald
df
Sig.
Exp(B)
90% C.I.for EXP(B) Lower
Kepala_Daerah(1)
-.217
.242
.807
1
.369
.805
.541
1.198
-1.319
.323
16.634
1
.000
.267
.157
.455
TLRHP
-2.187
.510
18.407
1
.000
.112
.049
.260
LN_Aset
-.241
.183
1.737
1
.187
.786
.581
1.062
Constant
10.530
5.127
4.218
1
.040
37422.841
Monitoring_LKPD(1 Step 1a
Upper
)
a. Variable(s) entered on step 1: Kepala_Daerah, Monitoring_LKPD, TLRHP, LN_Aset. The test is performed to determine the effect of each variable on corporate governance to fraudulent financial statements. Based on table, there are two variables that influence. Monitoring LKPD influence to the fraudulent financial statements with the Wald statistic value of 16.634 (p